GLOBALIZATION

Globalization in the Age of Trump

 Pankaj Ghemawat
From the July–August 2017 Issue

Business leaders are scrambling to adjust to a world few imagined possible just a year ago.
The myth of a borderless world has come crashing down. Traditional pillars of open
markets—the United States and the UK—are wobbling, and China is positioning itself as
globalization’s staunchest defender. In June 2016, the Brexit vote stunned the European
Union, and the news coverage about globalization turned increasingly negative in the U.S. as
the presidential election campaign progressed.

One week after Donald Trump’s inauguration, with fears of a trade war spiking,
the Economist published a cover story, “The Retreat of the Global Company,” in which it
proclaimed that “the biggest business idea of the past three decades is in deep trouble” and that
“the advantages of scale and…arbitrage have worn away.” And Jeffrey Immelt, GE’s
chairman and CEO, has talked about the company’s “bold pivot” from globalization to
localization.

But is a mass retreat from globalization really the right approach for companies in these
uncertain times? Or, short of packing up and returning home, should they focus on
localization—that is, producing and even innovating where they sell—as the strategy of
choice? Not according to my research. Recall that as recently as a decade ago, business leaders
believed that the world was becoming “flat” and that global companies, unconstrained by
country borders, would soon dominate the world economy. Those exaggerated claims were
proven wrong. Today’s cries for a massive pullback from globalization in the face of new
protectionist pressures are also an overreaction, in the other direction. While some of the
euphoria about globalization has shifted to gloom, especially in the United States,
globalization has yet to experience a serious reversal. And even if it did, it would be a mistake
to talk about the end of globalization: The “rewind” button on a tape recorder shouldn’t be
confused with the “off” button.

A full-scale retreat or an overreliance on localization would hamper companies’ ability to

create value across borders and distance using the rich array of globalization strategies that are
still effective—and will continue to work well into the future. Today’s turmoil calls for a more
subtle reworking of multinationals’ strategies, organizational structures, and approaches to
societal engagement. In this article, I address common misperceptions about what is—and
isn’t—changing about globalization, offer guidelines to help leaders decide where and how to
compete, and examine multinationals’ role in a complex world.

The Trajectory of Globalization

Doubts about the future of globalization began to surface during the 2008–2009 financial
crisis. But as macroeconomic conditions improved, the gloom gave way to a murky mix of
perspectives. For example, within the span of just three weeks in 2015, the Washington
Post published an article by Robert J. Samuelson titled “Globalization at Warp Speed” and a
piece from the editorial board called “The End of Globalization?”

In the face of such ambiguity, it is essential to look at the data. To see how globalization is
actually evolving, Steven Altman and I compile the biennial DHL Global Connectedness
Index, which tracks international flows of trade, capital, information, and people. The two
index components of greatest business interest—merchandise trade and foreign direct
investment—were hit hard during the financial crisis, but neither has suffered a similar decline
since then. Trade experienced a large drop-off in 2015, but that was almost entirely a price
effect, driven by plunging commodity prices and the rising value of the U.S. dollar. Updated
data suggests that in 2016 foreign direct investment dipped, in part because of the U.S.
crackdown on tax inversions. Complete data for 2016 is not yet available, but factoring in
people and information flows will probably reinforce the conclusion that globalization has
stayed flat or even increased.

What has nose-dived, however, is the tone of public discourse in the United States and other
advanced economies. An analysis of media mentions for the term “globalization” across
several major newspapers—the Wall Street Journal, the New York Times, and the Washington
Post in the U.S. and the Times of London, the Guardian, and the Financial Times in the UK—
reveals a marked souring of sentiment, with scores plummeting in 2016.
The contrast between the mixed-to-positive data on actual international flows and the sharply
negative swing in the discourse about globalization may be rooted, ironically, in the tendency
of even experienced executives to greatly overestimate the intensity of international business
flows relative to domestic activity. In other words, they believe the world is a lot more
globalized than it actually is.

Exaggerated perceptions about the depth of globalization—that is, how much activity is
international versus domestic—come at a cost. In surveys I’ve conducted, respondents who
overestimated the intensity of globalization were more likely to believe erroneous statements
about international business strategy and public policy. When businesspeople think the world
is more globalized than it really is, they tend to underestimate the need to understand and
respond to differences across countries when operating abroad. In the public policy sphere,
leaders tend to underestimate the potential gains from additional globalization and to
overestimate its harmful consequences for society.

Surveys suggest that people also underestimate the breadth of globalization—that is, the
extent to which international activity is distributed globally rather than narrowly focused. In a
2007 survey of Harvard Business Review readers, 62% of respondents agreed with the quote
from Thomas Friedman’s best-selling book The World Is Flat that companies now operate on
“a global, Web-enabled playing field that allows for…collaboration on research and work in
real time, without regard to geography, distance or, in the near future, even language.”
However, data shows that actual international activity continues to be dampened strongly by
all those factors.

To counteract such “globaloney,” I offer two laws that govern, respectively, the depth and
breadth of globalization:

 The law of semi-globalization: International business activity, while significant, is much less
intense than domestic activity.
 The law of distance: International interactions are dampened by distance along cultural,
administrative, geographic, and, often, economic dimensions.

These principles, set out in my book The Laws of Globalization, can be very helpful for
strategy making—if they can be counted on to apply in the future. Given surging protectionist
sentiments and possibly even a trade war, will they continue to hold? The best way of stress-
testing them—at a time when the precise policies of the Trump administration and other
governments are still unclear—is to look at the last time a major trade war broke out, in the
1930s, which led to the largest reversal of globalization in history. Two major lessons,
corresponding to the two laws of globalization, stand out.

Who's More at Risk in a Less-Global World?

The first lesson is that although trade dropped precipitously in the 1930s, it did not dry up
entirely. The collapse that began in 1929 was staggering, and by early 1933, trade flows had
plummeted by two-thirds. That said, the drop-off in value reflected a fall more in prices than
in quantities, which declined by less than 30%. Even in the wake of the collapse, trade
volumes continued to be far too large for business strategists to ignore.

The second lesson is that distance of various sorts continued to dampen international business
activity. For example, from 1928 to 1935, the relationship between trade flows and geographic
distance barely budged. The beneficial effects of a common language and colonial ties
remained powerful: Country pairs with such ties continued to trade about five times as much
with each other as pairs without such ties, all else being equal. The net result was that the
trading partners with whom countries (or groups of countries) did most of their business
before the crash remained largely unchanged afterward.

Getting back to the future: If global trade didn’t screech to a halt in the 1930s, it’s reasonably
safe to say that it won’t in the 2020s, either. In fact, analyses of what a trade war under Trump
might look like suggest much smaller declines in trade than occurred in the 1930s. Moody’s
Analytics estimates that if the United States were to impose proposed tariffs on China and
Mexico and those two countries retaliated in kind, that and other factors would shrink U.S.
exports by $85 billion in 2019. That’s only about 4% of total U.S. exports in 2015. Of course,
a wider trade war would have a more significant effect, but it is very unlikely that the
consequences would be as dire as in the 1930s.

Similarly, if the breadth of trade didn’t change much despite the drastic declines in depth
during the Great Depression, it probably wouldn’t change much in the event of a trade war
today. It is worth adding that with many more independent countries now, as well as more
vertically fragmented supply chains, the estimated effects of geographic distance on
merchandise trade are actually larger than they were in the 1930s.

Where to Compete

If cross-border interactions in the aggregate are unlikely to fade away, what is the rationale for
individual multinationals’ pulling back? The recent Economist article on the retreat of global
companies, which has stirred significant discussion, pointed to the performance problems they
have experienced. But the declines over the past three to four years occurred in an
environment of plunging commodity prices, dropping demand for globalization-related
services, and, for U.S. companies, shifts in exchange rates—factors that clearly played outsize
roles in the performance numbers. And longer-term declines over the past decade coincide
with a period in which globalization actually slowed down.

To argue that poor performance problems over this period should force reconsideration of
multinationalization would be like arguing that Singapore, the most deeply connected country
in the world according to the DHL Global Connectedness Index, should pull back from
globalization because of the growth problems it has experienced since the financial crisis. The
latest report of Singapore’s official Committee on the Future Economy dismisses that notion,
saying that globalization through trade, capital, and knowledge flows is still the future, as far
as Singapore is concerned. And even in countries much less dependent on exports than
Singapore is, a wholesale pullback from globalization would be counterproductive.

Even when economic conditions are favorable and globalization is advancing rapidly, as was
the case several decades ago, multinationals can face performance issues. My 2003 HBR
article, “The Forgotten Strategy,” notes that between 1990 and 2001, Fortune Global 500
companies consistently posted lower average returns on sales for their foreign operations than
for their domestic ones. Given the difficulties implied by the law of distance,
multinationalization has always been an option, not an imperative. Some firms—and
industries—clearly overdid it, especially in the years leading up to the financial crisis.

Organizing for Success

What’s lacking in much of the debate today is the notion of contingency: a case-by-case
approach in which a globalization-related move is evaluated on its own merits rather than
subjected to some sweeping injunction about whether to go forth and globalize or to come
back home. That said, many multinational companies do need to pay renewed attention to
where they compete—in other words, to market selection.

They must also resist the idea that a truly global company must compete in all major markets.
Some 64% of the respondents to the 2007 HBR survey agreed with this (non)dictum, yet an
analysis of internal financial data from 16 multinationals around that time indicated that eight
of them had large geographic units that destroyed value after their financing costs were taken
into account. Such problems still persist. Toyota, for example, seems to be the only major
competitor in the highly globalized auto industry that has managed to build up significant
market share in Japan, North America, and Europe and in key emerging economies—while
remaining highly profitable. By contrast, most major automakers would be better served by
following the example of GM, which shed its loss-making European operation, Opel, in
March 2017.

Recent data on companies ranked among the top 100 with the most assets located outside of
their home countries tells a similar story. While these companies tend to operate in dozens of
countries, their top four markets—including their home market—account for about 60% of
their revenues and probably a larger slice of total profits. And only a single-digit percentage of
the Fortune Global 500—the world’s largest firms by revenue—earn at least 20% of their
revenue in each of the “triad” regions of North America, Europe, and Asia-Pacific.

In sorting out which markets to focus on, it’s important to note that the law of distance applies
to foreign direct investment as well as trade. Although FDI is less sensitive to geographic
distance than trade is, I estimate the effect of a common language and a colony-colonizer link
to be similar and FDI to be more sensitive to differences in per capita income.

So as companies today weigh their options, they should look for opportunities where they can
find cultural, administrative/political, geographic, and economic affinities. This resonates even
more strongly as we recall that country relationships became even more important during the
1930s. As the political environment shifts, business leaders need to keep a careful eye on how
their home countries are realigning their international ties, and engage in their own corporate
diplomacy.

Remember too that staying at home is an option. Only about 0.1% of the world’s firms are
multinationals, although since multinationalization is highly skewed toward larger firms, this
greatly understates their overall impact. (Their foreign affiliates generate 10% of global GDP,
and the multinationals themselves account for more than 50% of world trade.) For companies
based in large emerging economies, focusing on the domestic market, where they enjoy home
court advantage as well as rapid growth, can be a particularly attractive proposition.

Leaders must resist the idea that a global company has to compete in every market.

Of course, trade can occur without multinationalization, and this is what some tout as the wave
of the future: The Economist points to “a rising cohort of small firms using e-commerce to buy
and sell on a global scale.” But e-commerce is still significantly less internationalized than off-
line commerce. And in light of changes brewing in the policy environment, this seems like a
particularly inauspicious time to think that one can go global just by setting up a website or
joining an online platform.

How to Compete

If you conclude that your company should continue to do business in a variety of markets, you
still need to figure out whether to change the type or mix of strategies that you use in response
to protectionist pressures. At a high level, globalization strategies have three components, as
described in my 2007 book, Redefining Global Strategy.

Companies use adaptation when they want to adjust to cross-country differences in order to be
locally responsive. They use aggregation to achieve economies of scale and scope that extend
across national borders. And arbitrage strategies are used to exploit differences, such as low
labor costs in one country or better tax incentives in another.

How companies should use these three strategies will change somewhat in a protectionist
world—but perhaps less than you’d think. Take adaptation. Jeffrey Immelt isn’t alone when he
talks of his company’s “bold pivot” away from aggregation and the importance of “localizing”
in today’s environment. Firms should look for opportunities to amp up their adaptation efforts,
because becoming more responsive to differences can help reduce the impact of protectionism.

What Are Your Globalization Options?

ADAPTATION boosts revenues and market share by tailoring products and services to suit
local tastes and needs.

AGGREGATION delivers economies of scale by expanding operations into regional or

global markets.

ARBITRAGE exploits differences in labor costs, tax regimes, and other factors between
national and regional markets.

The most obvious way for a company to adapt is to vary products, policies, market
positioning, and so on to suit local markets. However, each variation increases costs and
complexity. Therefore, smart adaptation typically involves limiting the amount of variation as
well as finding ways to improve the effectiveness and efficiency of any changes that are
introduced. For example, companies can design common platforms upon which local variants
are offered. Or they can externalize some of the costs of adaptation via franchising, joint
ventures, or other types of partnerships.
But while more adaptation may make sense, multinationals should not automatically put it
above all else—doing so would only undercut their sources of competitive advantage relative
to local competitors. Global companies—especially those from advanced economies—
typically justify their cross-border strategies primarily on the basis of aggregation. In the most
classic cases, they invest in intangible technological or marketing assets that they can scale
across national borders. Those advantages normally have to be pretty large in order to
overcome the home court advantage of local competitors. The economic rationale for
aggregation won’t evaporate for multinationals that have built a healthy, profitable business in
foreign markets—even if some countries make it more expensive to operate within their
borders. Companies that have operations in markets where they’re only marginally successful,
on the other hand, may need to retrench.

Turning to arbitrage, the opportunities for vertical multinationals to globalize on the supply
side rather than on the demand side have narrowed somewhat in recent years, but they still
remain large. Even with rising prosperity in large emerging markets, U.S. GDP per capita is
still seven times that of China, and 33 times that of India. Differences in tax regimes across
countries are not going away either, and will continue to provide arbitrage opportunities.
According to the OECD, the dispersion of corporate tax rates across countries has barely
changed since 2007, and progress at curbing tax havens has been slow. Furthermore, cross-
country differences in safety, health, and environmental standards continue to persist as well—
although exploitation of these differences raises ethical concerns.

Multinationals coming out of emerging markets tend to get their start from advantages rooted
in arbitrage—competing abroad on the basis of low costs at home. This strategy continues to
be the engine that drives the growth and profitability of India’s offshore IT services industry—
which inspired Friedman’s The World Is Flat, kicking off a wave of interest in arbitrage
strategies. More than a decade later, programmers’ salaries in India are still just a fraction of
those in the United States, and cost reduction remains the top reason companies choose to
outsource. The largest India-centric vendors have far outstripped their Western competitors in
terms of both growth and profitability, and as of June 2016 the top four India-centric vendors
enjoyed market valuations more than 50% larger than those of their top four Western
competitors.

As companies from advanced and emerging countries joust for global leadership, each has to
shore up its traditional weakness—for incumbents, that’s arbitrage; for insurgents, it’s
aggregation. For example, developed-world incumbents in IT services, such as Accenture and
IBM, have expanded their workforces in India, while Indian companies are trying to
strengthen their brands and technological capabilities.

Returning to GE, Immelt’s pivot toward localization does imply a boost to its adaptation
strategy. But GE—like most other multinationals—cannot give up on aggregation or arbitrage.
GE’s aggregation-based advantages are what underpin its ability to compete across 170
countries. Its $5.5 billion R&D machine yields world-beating technological innovations, its
$34 billion brand value opens doors everywhere, its famous management-training programs
both attract and cultivate talent, and its scope across products, services, and geographies all
contribute to GE’s immense cross-border aggregation potential. And while Immelt’s remarks
shrewdly downplay wage arbitrage as “what GE did in the 1980s,” in contrast to its current
focus on selling more abroad, arbitrage has become sufficiently ingrained at the company over
the past few decades that it will probably not disappear and will continue to be part of its
globalization strategy. In my view, GE’s “localization” strategy is best understood as one that
retains a core strength in aggregation while toning down the company’s prior emphasis on
arbitrage and becoming more adaptive.

Engaging with Society

Along with where and how to compete, questions about how to engage with society are
becoming increasingly prominent on business leaders’ agendas. Except in highly regulated
industries, companies have historically treated interactions with governments, media, and the
public as an afterthought in setting strategy. But now, as Martin Reeves of BCG points out,
“In many cases companies are seeing bigger impacts from political and macroeconomic
factors than from competitive considerations.” Those factors, he says, include Brexit-driven
exchange rate movements, share price fluctuations in response to policy pronouncements, and
the cost of changing investment plans in light of anticipated shifts in trade policy. I would add
to the list the rise of NGOs, the proliferation of social media, and increases in anti-
globalization sentiment.

Companies are constrained in their responses to these developments by a range of factors.

First of all, the backlash against globalization is also—in part—a backlash against big
business. The general reputation of business is at an all-time low. In a recent survey, the Pew
Research Center asked respondents in the U.S. how much people in 10 occupations
contributed to the well-being of society. Business executives ranked next to last, ahead only of
lawyers. Just 24% of respondents said they thought business leaders contributed “a lot.” The
2017 Edelman Trust Barometer also reports an all-time low for CEO credibility. And
companies’ decisions about how to deploy the reputational capital that they do possess are
complicated by tensions between a country’s citizens and its government—Uber CEO Travis
Kalanick ran into problems with public perception when he joined Trump’s business advisory
council, for example—as well as by uncertainties about how the broader environment will
evolve.

In such a context, just speaking up more about social issues—as business leaders today are
often instructed to do—is no panacea. While it is hard to offer simple instructions about how
to cope with these complexities, the law of semi-globalization does suggest one injunction and
one insight. First the injunction: Falling in line with what governments want wherever a
company operates is unlikely to be a sustainable strategy. Multinational companies need to
craft governmental and societal agendas that are both localized and linked across countries.
Anti-globalization pressures require that multinationals deliver more local benefits—and
communicate about them—in the countries where they operate. Such efforts must go well
beyond compliance to include contributions in the form of jobs, technology, and so forth.

The backlash against globalization is also—in part—a backlash against big business.

Of course, there are dangers to shifting too far toward localization. Consider how IBM
responded to the rise of the Nazi regime in Germany. Rather than pulling back—even as it
became clear that the census IBM was supporting was being used to identify Jews for
persecution—IBM sought to grow its business with the Nazi government. In 1937, then-CEO
Thomas Watson was awarded—and accepted—a medal from Hitler for “service to the Reich.”
One would hope that such a strategy would not even merit consideration today.

The law of semi-globalization affords an important insight as well: Addressing much of our
current malaise—including but not confined to anti-globalization sentiment—requires
domestic policy changes rather than the closing of borders. For example, one of the principal
complaints about globalization today is the sense that it has contributed to rising income
inequality and that a large swath of the population in advanced economies has been left
behind. In the U.S., income inequality has recently risen to levels last seen in the 1920s, and
other countries, especially developed ones, have registered similar, if less dramatic, increases.
Meanwhile, corporate profits are running close to their highest historical levels.

The widespread perception that globalization is primarily to blame for this problem, however,
is empirically implausible. Most research suggests that technological progress and (in the
United States) the decline of unions have been bigger contributors to inequality than
globalization. Corroboration is supplied by real-world examples: If the Netherlands can
preserve a more reasonable income distribution despite having a trade-to-GDP ratio six times
that of the United States, it seems odd to blame globalization for the much higher level of
inequality in the U.S. economy. And even if one is inclined to point fingers at globalization, it
is clear that protectionism is a much more expensive solution than government safety nets,
increases in the minimum wage, changes in tax policy, job-training programs, and the like.
Such policies are not typically favored by big business, so corporate voices advocating them
make a powerful statement. Furthermore, closing borders does nothing to prepare a country to
deal with the automation-related threats to jobs that dominate the debate about the future of
work.

Further Reading

My research into the 2011 book, World 3.0: Global Prosperity and How to Achieve It, offers
an in-depth evaluation of the various harms attributed to globalization. (I expected the present
backlash to arrive several years before it did.) Some, such as the risks associated with
international imbalances in trade and investment, are indeed real and significant. Most others,
however, turn out to be overblown in relation to actual levels of international integration. For
example, the contribution of international air transportation to energy-related greenhouse gas
emissions is only one-tenth as large as British air travelers estimated in a survey. To deal with
global warming, it would be far more effective to tackle bigger sources such as housing or
driving. My research suggests that international openness should be coupled with targeted
domestic policies in addressing such side effects as globalization does have.

That perspective is, of course, the opposite of President Trump’s apparent preference for
domestic deregulation and international intervention, which brings me to my last point—
which may seem politically partisan but is rooted in the common notion that a company’s
market and nonmarket strategy should be in alignment. If your company is or may eventually
be global, it’s not a good idea to actively support policies that build up barriers to trade and
capital flows, make people less mobile, and delegitimize the idea that companies can
contribute to the well-being of people in more than one country—even if all you care about is
shareholder value. Over the long run, companies that rely heavily on sourcing from abroad
(such as Walmart) and those that export far more than they import (such as GE) would benefit
from joining forces to oppose protectionism.

CONCLUSION

In his classic 2006 Foreign Affairs article Samuel Palmisano, then chairman and CEO of IBM,
pointed out that 150 years ago, companies that crossed borders engaged mostly in trade, but by
the early 1900s, they had started to invest in localizing production. He also proclaimed the
recent emergence of a new corporate form, the globally integrated enterprise, for which “state
borders define less and less the boundaries of corporate thinking or practice.”

From today’s perspective, that seems too rosy by half. But there is some good news for those
tasked with leading multinational companies. First, the global corporation never became
nearly as integrated as Palmisano prophesied, so the amount of change required if
globalization does go into reverse is less than people might think. Second, it’s still unclear
whether a retreat from globalization will occur: International activity has stagnated in recent
years but has not fallen off significantly. And third, even if globalization suffered a violent
reversal similar to that experienced at the beginning of the 1930s, the world would still remain
more globalized in terms of trade and foreign direct investment than it was in the 1920s, let
alone in the 19th century. So reverting to the multinational structure of 100 years ago or the
trade-based structures of 150 years ago strains plausibility. Globalization strategy and practice
have advanced well beyond the prescriptions those historical models would imply, and leaders
would be ill-served by going backward.

A version of this article appeared in the July–August 2017 issue (pp.112–123) of Harvard Business
Review.

Pankaj Ghemawat is Global Professor of Management and Strategy at the NYU Stern School of
Business, Director of NYU Stern’s Center for the Globalization of Education & Management,
and Professor of Strategic Management at IESE Business School. He is the author of The New
Global Road Map (Harvard Business Review Press, 2018).